A graduated rate estate (Trust 1) holding qualified small business corporation (QSBC) shares, as defined in subsection 110.6(1) has two testamentary trusts (Trust 2 and Trust 3) as beneficiaries. Trust 2 and Trust 3 have individuals as beneficiaries.
Trust 1 sells its QSBC shares and allocates (and distributes in cash) the resulting taxable capital gain to each of Trust 2 and Trust 3 in the year which, in turn, allocate (and distributes in cash) their respective taxable capital gains to their respective various individual beneficiaries in the year for their own account. Designations are made under ss. 104(21) and 104(21.2). All relevant designations, allocations and payments are made in accordance with the deceased’s will.
Can the individual beneficiaries of Trust 2 and Trust 3 claim the capital gains exemption assuming that all other conditions are met? CRA responded:
[I]n order to compute the “annual gains limit” of each of Trust 2 and Trust 3, it is necessary to take into account the amount designated by Trust 1 under subsection 104(21.2) in respect of each of Trust 2 and Trust 3. Paragraph 104(21.2)(b) provides that for the purposes of sections 3, 74.3 and 111 as they apply for the purposes of section 110.6, Trust 2 and Trust 3 shall be deemed to have disposed of capital property that is a QSBC share, and to have a taxable capital gain equal to the amount determined by the formula in clause 104(21.2)(b)(ii)(B).
Consequently, where Trust 1 has made designations under subsections 104(21) and (21.2) in respect of amounts distributed to Trust 2 and Trust 3, Trust 2 and Trust 3 can also make designations under subsections 104(21) and 104(21.2) in respect of the amounts distributed to their respective beneficiaries, provided all of the conditions are met. The designations made under subsection 104(21.2) by Trust 1 in respect of each of Trust 2 and Trust 3 must be taken into consideration in order to determine the eligible taxable capital gains of Trust 2 and Trust 3, respectively. Furthermore, where designations are made by Trust 2 and Trust 3 under subsections 104(21) and (21.2) in respect of amounts distributed to the individual beneficiaries of Trust 2 and Trust 3, the respective individual beneficiaries of each of Trust 2 and Trust 3 will be deemed to have disposed of capital property that is a QSBC share, and to have a taxable capital gain equal to the amount determined by the formula in clause 104(21.2)(b)(ii)(B), to allow them to claim the capital gains deduction under subsection 110.6(2.1) provided all the other conditions are met.
… 2016-0667361E5 no longer represents the position of the CRA.